The price it is paying works out to S$2,689 psf on NLA; rights issue that will partly fund the purchase will be yield dilutive in the short term

CAPITALAND Commercial Trust (CCT) is finally making its debut in Singapore's premium Marina Bay office market with its acquisition of the office and retail space at Asia Square Tower 2 for S$2.094 billion or S$2,689 psf on net lettable area (NLA). The seller is BlackRock Asia Property Fund III.

This is the biggest office investment sales deal in Singapore so far this year, taking the year-to-date tally to S$6.38 billion, according to CBRE Research. The figure for the whole of last year was S$10.08 billion, buoyed by the sale of Asia Square Tower 1 at S$3.38 billion or about S$2,700 psf on NLA to Qatar Investment Authority.

CBRE and JLL brokered the sales of both towers.

JLL's head of capital markets, Singapore, Greg Hyland, said that "we expect (Singapore office) prices to pick up in the coming quarters as supply starts to taper down between now and the end of 2019".

Jeremy Lake, executive director of capital markets at CBRE, said that "one or two owners (of Singapore office buildings) have been tracking this deal pending making a decision to sell their own building".

CCT said its total acquisition cost for Tower 2, inclusive of transaction costs and acquisition fee, is S$2.151 billion.

The trust will fund the purchase through a combination of a fully underwritten and renounceable rights issue that will raise net proceeds of S$690.4 million, external bank borrowings amounting to S$1.12 billion and proceeds of about S$340.1 million from the divestments of One George Street or OGS (50 per cent stake), Golden Shoe Car Park and Wilkie Edge.

The rights ratio will be 166 rights units for every 1,000 existing units. Some 513.5 million rights units will be issued at S$1.363 per rights unit - translating to a 19.6 per cent discount to CCT's Sept 20 closing unit price of S$1.695 and a 17.3 per cent discount to the theoretical ex-rights price (TERP) of S$1.648 per unit. The counter was suspended for the whole of Thursday.

The rights issue, which closes on Oct 19, will result in some dilution to distribution per unit (DPU) from the actual figure of 4.56 Singapore cents for the first half of FY2017 to a proforma figure of 4.23 cents adjusted to factor in the effects of the OGS, Wilkie Edge and Golden Shoe Carpark transactions, the rights issue and the acquisition of Asia Square T2.

However, CapitaLand Commercial Trust Management's top brass instead highlighted that the growth trajectory of the earnings from Asia Square T2 is already visible. Based on the TERP, the proforma DPU yield for CCT would be 5.13 per cent (annualised) for H1 FY2017, higher than 4.62 per cent for the whole of FY2016. This is on the back of rising occupancy and net property income (NPI) from Asia Square T2.

Based on the S$2.094 billion price for this asset, the NPI yield was 3.1 per cent in FY2016 but rose to 3.4 per cent (annualised) for H1 2017. Based on the committed occupancy rate of 88.7 per cent as at June 30, 2017 - including leases signed with tenants that will begin on March 1, 2018 - the price reflects 3.6 per cent NPI yield.

The space that CCT is buying in Asia Square has a net lettable area of 778,719 sq ft comprising 753,445 sq ft of office space and 25,274 sq ft of retail space. The deal excludes the Westin hotel in the tower which BlackRock sold earlier.

Asia Square T2's average occupancy rate in H1 2017 was 81.2 per cent. "As we continue to lease (the vacant space), the impact of the acquisition to the portfolio DPU should be greater," said Lynette Leong, chief executive of CCTML. "This is the growth we are looking at Asia Square T2 and that is one of the reasons we are buying it."

Citing market stats showing that Singapore's Grade A office rents have reached a trough, Ms Leong said the acquisition will position CCT to benefit from the expected market uptick in Grade A office rents. "And given our track record of successful leasing strategies, we will be able to capture further rental income upside from increasing the property's ... occupancy in a rising market." Moreover, the low new CBD office supply completing till 2021 should help the trust to realise the upside in leasing out the vacant space in Asia Square Tower 2 "fairly quickly".

The acquisition also solidifies the trust's position as the largest office landlord in Singapore's central area, Ms Leong said. "CCT will be well anchored in all the key submarkets in Singapore's CBD namely Marina Bay, Raffles Place, Tanjong Pagar and City Hall. And this will give a variety of locations and product offerings to our office tenants and to meet their needs from different business sectors."

CCTML chairman Soo Kok Leng highlighted the merits of the group's portfolio reconstitution strategy. One George Street (50 per cent stake) and Wilkie Edge were divested at exit yields of 3.2 per cent and 3.4 per cent respectively, and are being replaced with the acquisition of a newer and higher yielding Grade A asset, Asia Square T2, at an initial yield of 3.6 per cent.

The property will also boost CCT's portfolio value from S$8 billion to S$10.1 billion and contribute about 15 per cent of CCT's proforma H1 2017 NPI.

The transaction is also poised to increase CCT's market capitalisation and potentially improve the counter's trading liquidity, Ms Leong added.

Vikrant Pandey, senior property analyst at UOB Kay Hian, said the transaction cements CCT's position as a quality office landlord. "Previously they did not have a piece of the New Downtown. The acquisition will be yield dilutive in the near term because of the rights issue but there is potential for yield accretion from this asset in the long term as the vacant space in the building is filled amid rising office rents."

Some market watchers are wondering why Asia Square Tower 2 is being transacted at slightly lower than Tower 1 given the improving sentiment in the office market lately. A property consultant offered this explanation: "The office market rent in Marina Bay in Q2 2017, the quarter prior to the Tower 2 deal, was lower than in Q1 2016 (prior to the sale of Tower 1 in June of that year). Furthermore the actual occupancy rate of Tower 2 is signficantly lower than that for Tower 1 at the the point of divestment."